1031 Exchanges

What is Tax-Deferred Exchange?
Under Section 1031 of the Internal Revenue Code, owners of real
estate held for investment or use in a trade or business can swap
their property tax-free for "like-kind" real estate. Exchanges
are made for people wanting to stay invested in real estate, increase
their leverage and to avoid paying hefty taxes upon the sale of
property.

Reason to Exchanges
- Restoring Depreciation that will soon expire - by exchanging one
property for another
of greater value.
- To upgrade size and/or quality of investment. An exchange can
be utilized to combine the equity of one or more properties into
a larger singular investment.
- To change investment location. An exchange can be executed in
anticipation of market
trends to maximize appreciation potential.

7 Steps for a Successful 1031 Tax Deferred
Exchange

Step 1: Consult with your tax and
financial advisors to determine if a tax deferred exchange is appropriate
for your circumstances and compatible with your investment goals.

Step 2: Listing the Relinquished
Property for sale with a licensed real estate broker. During the
first step the Exchanger will list the Relinquished Property with
a real estate broker. The broker/agent will disclose the intent
to complete an exchange in the listing agreement.

Step 3: Offer, Counter Offer and
Acceptance. The Exchanger enters into a contract with the Buyer
for the sale/exchange of the Relinquished Property. The broker/agent
discloses the Seller/Exchanger's intent to exchange into the Purchase
Agreement and Receipt for Deposit.

Step 4: Open escrow for the Relinquished
Property and coordinate with the Facilitator. The Facilitator prepares
the exchange agreement and coordinates with the escrow holder to
close escrow as Phase I of a tax deferred exchange. Important: The
exchange agreement must be in place and signed by all parties prior
to close of escrow. Additionally, all earnest money deposits should
be placed with the title company.

Step 5: Replacement Property Identification.
After closing escrow for the sale of the Relinquished Property,
the Exchanger must identify all Replacement Property within 45 days
from day after close of escrow.

Step 6: Contracting for the Replacement
Property. After closing on the Relinquished Property the Exchanger
has 180 days to acquire the Replacement Property. With the help
of his or her agent the Exchanger enters into contract to purchase
the Replacement Property from the Seller. In the contract to purchase
the agent discloses the Exchanger's intent to complete the exchange
and obtains the Seller's cooperation.

Step 7: Open escrow for the Replacement
Property. The Facilitator prepares the Phase II Exchange Agreement
and coordinates with the Replacement Property Escrow holder. The
funds held in trust by the Facilitator are placed in escrow and
the Replacement Property is purchased by the Facilitator from the
seller. The Facilitator then transfers the Replacement Property
to the Exchanger and the transaction is closed as Phase II of a
delayed exchange.

Identification of Replacement Property
Regardless of the number of relinquished properties transferred
by the Exchanger as part of the same exchange, the maximum number
of replacement properties that the Exchanger can identify is as
follows:

3 Property Rule: Three properties
without regard to the fair market values of the replacement properties.

- Or -

200 Percent Rule: Any number of
properties as long as their aggregate fair market value as of the
end of the identification period does not exceed 200 percent of
the aggregate fair market value of all the relinquished properties
as of the date the relinquished properties were transferred by the
exchanger.

Exception
95 Percent Rule: Any number of replacement properties identified
before the end of the identification period and received before
the end of the exchange period, but only if the Exchanger receives
before the end of the exchange period identified replacement property
the fair market value of which is at least 95 percent of the aggregate
fair market value of all identified replacement properties.

Glossary of Terms

Accommodator: A principal involved
in the exchange transaction who agrees to assist the exchanger to
effect a tax-deferred exchange. Same as Facilitator or intermediary.
Accommodating Party: In an exchange of properties there
is always a person or entity that steps in to accommodate or facilitate
the exchange transaction. Depending on how the transaction is structured,
the accommodating party may incur additional liability in their
efforts to assist in the exchange.

Acquisition Property: Replacement
property

Actual Receipt: When the Exchanger
actually receives the funds from the sale of the Relinquished Property.
Receipt of cash by the Exchanger before he receives the Replacement
Property may be enough to destroy the tax deferred treatment of
the transaction.

Adjusted Basis: Generally speaking
the adjusted basis is equal to the purchase price plus capital improvements
less depreciation. Transactions involving exchanges, gifts, probates
and receiving property from a trust can have an impact on calculating
the property's adjusted basis. The taxpayer's C.P.A. or tax advisor
is the party to look to for these types of questions.

Boot: Boot is any type of property
received or given up in an exchange that does not meet the like
kind requirement. Generally speaking, receiving boot will trigger
the recognition of gain and taxes. If the Exchanger receives boot,
they will be taxed. Boot added or given up by the Exchanger does
not necessarily trigger a taxable event. In a real property exchange,
boot received is any type of property received by the exchange which
is not real property held for investment or productive use in a
trade or business.

Cash Boot: Cash Boot consists of
cash and nonqualifying property. A car, a boat or receipt of the
beneficial interest in a promissory note are all examples of Cash
Boot.

Mortgage Boot: Mortgage Boot consists
of the secured debt given up and received as part of the same exchange.
If the exchanger increases the amount of debt on the Replacement
Property verses the Relinquished Property, they have given mortgage
boot. If the exchanger decreases the amount of debt on the Replacement
Property verses the Relinquished Property, they have received mortgage
boot. Generally speaking, mortgage boot received triggers the recognition
of gain and it is taxable, unless offset by Cash Boot added or given
up in the exchange.

Constructive Receipt: Even if the
Exchanger does not actually receive the proceeds from the disposition
of the Relinquished Property, the exchange will be disallowed if
the Exchanger is treated as having constructively received the funds.

Delayed Exchange: Also called non-simultaneous,
deferred and Starker. A delayed exchange is a tax deferred exchange
where the Replacement Property is Received after the transfer of
the Relinquished Property. In a delayed exchange the Exchanger must
identify all potential Replacement Properties within 45 days from
the transfer of the Relinquished Property and the Exchanger must
Receive all Replacement Properties within 180 days or the due date
of the Exchanger's tax return whichever occurs first.

Like-Kind Property: Refers to the
nature of the property the Exchanger gives up or receives as part
of the same tax deferred exchange transaction. In order to qualify
as like kind the property given up or received must be held for
productive use in a trade or business or held for investment to
qualify as like-kind.

Realized Gain: Refers to a gain
that is not necessarily taxed. In a successful exchange the gain
is realized but not recognized and therefore not taxed.

Recognized Gain: Refers to gain
which is subject to tax. When someone disposes of property at a
gain or profit in a taxable transfer such as a sale, the gain is
not only realized, but recognized and subject to tax.

Relinquished Property: The property
given up by the exchange to start the 1031 exchange transaction.
This property usually passes through an accommodator before transferring
to the ultimate Buyer.

Reverse Exchange: An exchange where
the Exchange acquires or gains control of the Replacement Property
before disposing of the Relinquished Property.

Simultaneous Exchange: Also referred
to as a concurrent exchange. A simultaneous exchange is an exchange
transaction where the Exchanger transfers out of the Relinquished
Property and Receives the Replacement Property at the same time.

Transfer Tax: A tax usually assessed
by a city or county on the transfer of property. It may be based
on equity or value. When structuring a multi-party exchange an exchange
agreement will usually call for direct deeding to eliminate additional
transfer tax.

April 15th
A taxpayer must identify replacement property within 45 days after
the transfer of the relinquished property, and acquire the replacement
property within the earlier of 180 days of the relinquished property
closing, or the due date of the taxpayer's tax return. This means
that 1031 escrows that close after Oct. 18 will not have the full
180 days to acquire the replacement property unless the taxpayer
files an extension.